EC 1 UCLA Dr. Bresnock Lecture 6 Explanations for the “Law of Demand” (1) Diminishing Marginal Utility (DMU) -- the additional satisfaction that a consumer receives from consuming equal additional units of a good or service decreases as more units are consumed. (And visa versa) (2) Income Effect-- as the price of a good increases the consumer’s “real income”, or purchasing power, declines. Consequently as the P ↑ s the consumer purchases less of the good or service and less of other goods or services and visa versa. (3) Substitution Effect-- among goods that a consumer considers to be substitutes, the consumer will purchase more units of the relatively cheaper good and visa versa. This is a “relative price”, or “relative attractiveness” concept. Remember that the consumer is indifferent between substitute goods to satisfy their need. Concept of Utility “Utility”-- means satisfaction; want-satisfying power. A “util” means a unit of satisfaction, happiness, “jollies”. Utility does not mean usefulness. Utility is a subjective, or concept. Measuring Utility-- two methods: (1) Cardinal Utility-- quantitative evaluation of satisfaction. Ex. temperature of 100 ° vs 50 ° . Numbers indicate that the 100 ° temperature is twice as hot as the 50 ° temperature. Note : With cardinal utility, the size of the difference in the numerical value matters. (This utility approach to understanding consumer behavior is discussed in Chapter 10.) (2) Ordinal Utility-- qualitative assessment of satisfaction. Ex. A is preferred to B. Note : With ordinal utility, the ordering, or ranking, of the consumer’s preference matter. Numerical value simply denotes the order or rank but not a specific quantitative

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